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Sunday, March 20, 2011

The corporate governance discount-why Lok Housing's valuations are rock bottom.

A friend suggested that I look into Lok Housing And Constructions Limited(LOKHSG) where he has an investment. What further triggered my interest was the low enterprise value of the stock(market cap Rs 104Crores and around Rs 56 crore debt; total EV=160 crores). For a company with several interesting projects
  1. After repeal of Maharashtra's land  ceiling control law ULCRA, land of approximately 3,29,704.64 sq. mtrs. at Ambernath in the suburbs of Mumbai, has become available for development
  2. 49% stake in redeveloping  around 30 acres of land (362 buildings and over 8000 tenements in the prime location Kalbadevi in Mumbai's C ward, involving demolishing these old and dilapidated buildings and in their place constructing  high rise structure in the ear-marked plots. Approvals have come and construction would start soon. Pilot project of 30acres is expected to increase to 232 acres.
  3. On-going projects such as Lok Mansarovar, Lok Prabhat and Lok Nirman.
  4. As one of the schedules show, they have 86.17 lakh sq feet work in progress, work in progess valued at around Rs 390/sq foot. Given that developers usually get a profit of around Rs 2000+/sq feet(conservative), this amount can only rise. 
 Then WHY is the mcap stagnating at this low premium? I had a look at their FY10 annual report(download here) and some earlier ones. And this is what I noticed(also note the nonperformance v/s Sensex)

Index Comparison
  1. Independent director Mr BC Jain(renowned Chartered Accountant) appointed in Mar-10, resigned in Nov-10 itself(see here). As a professional, he has a lot to lose by remaining on a board of a company with doubtful antecedents, and so his resignation should be viewed in that light
  2. They have debt of 56Cr but operating cash flow of only about 3Cr/yr. Repayment is difficult, and in fact they have defaulted on the Rs 42Cr debt from SBI. In the post LIC Housing Finance era, it will be difficult for them to raise funds from banks, to complete their projects. Other channels like PE funds are expensive demanding an IRR of 18%-20%+
  3. As my friend Miheer Desai pointed out, there are accounting irregularities. In 2008-09, they had to restate their debtors/inventories because they had accelerated revenue recognition on instalments which they were unable to collect. Though this was an industry wide phenomenon, it affected Lok the most relatively. On the socalled doctrine of 'relating back', they has the accounts revised
    for FY 06-07 and FY 07-08. This can be viewed favourably(honest enough to revise) but also draws doubts on the accounting/audit quality
Inspite of all this, the upside factors for the stock though can be
  1. Bigger fool theory:-In May-10, Promoters were allotted 5 million shares @ Rs 40/share. They have an incentive to boost the share price to above that. 
  2. Land bank valuations when monetized AND success of the redevelopment project. If they can sell off/partner with bigger builders, this can be beneficial.If we look at the stock price performance, it has tracked sales/profit(as it should) WITHOUT considering option valuation of landbank.
    Performance Chart
  3. New political alignments. The Mumbai share bazaar gossip places Lok in the company of the Hindu right wing party-Shiv Sena-which controls the Mumbai municipal corporation but which has been out of power for the past 6yrs+ in the State. Given that lucrative projects need the co-operation of both State and local Govts, realignment with the Congress/NCP(parties in power at the State level) may boost the scrip
  4. Clarity on debt repayment:- Once this is repaid atleast substantially, stock may go up.
 Only fools go where angels fear to thread. In a stock without any institutional presence, and with such serious issues, investing needs a leap of faith. But then, the returns can be exponential.

2 comments:

Miheer Desai said...

Didn't expect such a deep analysis!

Prabakaran said...

IWC Bull: The same story is there for last five years and no improvement untill now. Who want to wait in a train station that has tracks and building where no trains arive. This stock is also same, the train (Cash flow ) should be there else it is dead asset with poor managment guys have rice bt do not how to sell it as rice or as a high class food with expensive proce.